Getting Pre-Approved

Understanding Different Loans

As you meet with lenders, they will discuss different types of mortgage products and help you determine which type of loan best meets your needs. Although new mortgage products are continually being introduced, most mortgages fall into the categories summarized in the table below. Understanding these basic types of loans will help you feel more comfortable in discussing your options with a lender.

Many lenders also offer first-time buyer programs, which require smaller down payments and offer more flexible approval criteria, as well as credit solution programs, which offer financing choices to applicants with no credit history, little prior credit, or inconsistent repayment. Ask your lender if any of these situations applies to you. Also, if you are relocating to the area, ask your employer if they have a preferred lending arrangement.

Types of Loans 

• Conventional – The most commonly used mortgage in the U.S., conventional loans are not part of a government-housing program and are not insured or guaranteed by the federal government. Conventional mortgages typically require a 20% down payment to avoid private mortgage insurance (PMI).
• Government VA & FHA – FHA and VA loans are government-insured and make a purchase more affordable than conventional loans. They require little (FHA, 3%) or no (VA, 0%) down payment and have interest rates similar to conventional loans but lower limits on the maximum amount of money that can be borrowed. These loans provide a larger market for sellers and ultimately help homes sell faster because more buyers can qualify with their lower down payments, interest rates and monthly payments. Some lenders charge high fees with these loans called “buyer non-allowables,” which means the seller has to pay these processing and underwriting fees. Always find out how much these fees are. Granted, you’re not paying them, but that is money that must be disclosed to the seller and will influence their decision.
• Jumbo and Super Jumbo  – Jumbo and super jumbo loans are loans that exceed a specified dollar amount. Typically, jumbo and super jumbo loans have higher interest rates and closing costs due to the lender’s increased risk associated with a higher loan amount.
• Fixed Rate – With a fixed-rate mortgage, the interest remains the same for the life of the loan.
• ARM(Adjustable Rate Mortgage) – For an adjustable rate mortgage (ARM), the interest rate is fixed for a period of time and then changes at a pre-determined time. An ARM can enable you to purchase a more expensive home than may be possible with a fixed rate. The initial interest rate is usually lower than a fixed rate, and most ARMs have an interest rate cap. ARMs are available in a number of different terms including 10-year, 7-year, 5-year and 3-year. For many people, ARMs are a very good short-term option, but they rarely make sense to anyone planning on living in their home for more than ten years.
• Investor Loans – Loans for investment properties with variable down payments based upon the number of units purchased.
•  Balloon –  A balloon mortgage is a short-term mortgage loan. The interest rate remains unchanged during the term of the loan, but repayment of the remaining balance or a partial balance will be due before the end of the term. Most people either refinance or sell the home before a balloon mortgage ends its term. These are common on a second mortgage obtained to help with a down payment when 20% down is not available to the purchaser.
• Construction Loans – A construction loan is financing obtained to build a new home or to remodel an existing home. Typically it is short-term financing that needs to be refinanced into long-term, permanent financing once the home/remodel is complete. Some lenders offer a “one-time close” construction loan; once the home is complete, the note is modified into a long-term standard mortgage without a second closing.
• Bridge Loan – Also known as a swing loan, a bridge loan is a mortgage that enables a borrower to obtain financing for a new house before their present house is sold. The present home is used as collateral. These are only possible if the lender determines that the existing home has a substantial enough equity position to lend against.
• Second & Third Mortgages –  Purchasers who don’t have a 20% down payment typically obtain a second loan, and sometimes a third, to make up the difference. Some lenders can offer the additional loan themselves, while others might find a third-party to make up the loan. Typically, the closing costs associated with a second loan are minimal, especially if the same lender is doing the same work, but the rates are higher. Why borrow money for a second? The interest paid on a mortgage, even a second or third, has tax advantages unlike mortgage insurance, which is  required for purchasers with less than 20% down.  Second and third mortgages offer greater risk to the lender and less chance of repayment should the buyer default because the first mortgage collects on the property first. Correspondingly, rates for second & third mortgages tend to be higher. 
• Bond Money Loans – Call Alan for current information.

Obtain Pre-Approval & Get a Good Faith Estimate

Once you’ve chosen a lender, work with them to obtain loan pre-approval and lock your interest rate (or you can “float” until you lock). The lender will verify your income, assets and debts as well as review your credit history. Ask for a pre-approval letter, which states that the lender agrees to lend a specified amount of money subject to a satisfactory appraisal. Once you have locked your interest rate, ask for a copy of the “lock letter” as well.

Lenders should also give you a good faith estimate, detailing the costs associated with obtaining a loan from that particular lender. The “GFE” should break down and itemize all the charges the lender collects at closing for their services, estimate your tax and insurance escrows, provide an estimated monthly payment and a fairly accurate estimate of your total amount due at closing. It should also provide your annual percentage rate (APR). This is a way to determine if a 7.0 interest rate with low closing costs is better or worse than a 6.75% interest rate with high closing costs.

Understanding Points and Closing Costs

A Good Faith Estimate will indicate the dollar amounts payable at closing associated with the loan. A loan origination fee is money paid to obtain the loan and is typically 0 to 1% of the new loan amount. The best rate offered by most lenders is commonly associated with a 1% origination fee.

Discount points are dollars charged to obtain a certain interest rate. In other words, they are usually buying the rate down. For example, to obtain a 5% interest rate on a loan, a lender might charge an additional 1 point, or 1.5% of the new loan amount.  Otherwise, the rate might be 5.25%.

Points are not set by government regulation but by each lender individually, so points vary from lender to lender and day to day. Lenders charge points to increase the yield for mortgage investors. If rates on mortgage loans are lower than other investments such as stocks or bonds, then lenders charge points to make mortgage investments more competitive. Also, when business needs, military requirements, or other government borrowing creates a heavy demand in the money market, money for home mortgages becomes scarce and more expensive. When this occurs, more points can be charged. Essentially, points balance the market. 

Who pays the points depends upon the type of loan. 

For FHA & VA loans, the buyer usually pays the loan origination fee and the buyer or seller pays the discount fee. For conventional loans, points can be paid by the buyer, the seller, or split between the two. This will be stated on the sales contract. In any event, points are more common with conventional loans because conventional purchasers typically have more cash on hand than a FHA or VA buyer with no more than 3% available for a down payment. Points paid to secure the mortgage, whether paid by the buyer, or by the seller on behalf of the buyer, are generally accepted as interest and tax-deductible when they are used in conjunction with a purchase loan (re-financing does not offer the same tax advantage). Consult with a tax professional to determine possible deductions related to closing on a new mortgage.

Understanding PMI

PMI is private mortgage insurance, and it is required on loans with less than a 20% down payment. In the event of a default, the PMI company will reimburse the lender a percentage of the loan amount. PMI is literally a penalty associated with risk. A lender typically factors a low degree of risk in lending to a borrower that will own 20% of the property. Therefore, PMI is extremely uncommon for borrowers who own in excess of 20% of the property. Correspondingly, PMI is highest for those that obtain 100% financing on a property, less for those with 10% equity, and least for those approaching 20% equity in their home. Mortgage insurance is never tax-deductible.

Complete Your Loan Application

Once you have obtained loan pre-approval, it’s a good time to gather the information you need to complete your loan application once you find the home you want to buy. To help you with this information gathering process, use the checklist below.

• Personal information Name and social security numbers
• Current and previous addresses 
• Employment information Monthly salary and sources of income
• Information on employment and employer 
• Assets Landlord/mortgage company information
• Source of down payment and closing costs
• Bank address(es), account numbers and approximate balances
• Value of assets (stocks, bonds, mutual funds, etc.)
• Net worth of businesses owned
• Information on automobiles, boats, campers, personal property or collectibles owned 
• Liabilities Confirmation of credit cards and installment loans
• Information on any other properties owned (rental, investment, second homes, etc.)
• Alimony/child support payments